* Possibility of Italian elections unnerves financial markets
* Euro weighed by sharp decline in German bund yields
* Dollar index around its highest since mid-November
By Shinichi Saoshiro
TOKYO, May 29 (Reuters) - The euro struggled near a 6-1/2-month low against the dollar on Tuesday, the bounce seen at the start of the week fading out as investors took a grim view of Italy seemingly heading towards another election.
The euro was little changed at $1.1629 EUR= after slipping overnight to $1.1607, its lowest since Nov. 9.
The euro had spiked to $1.1728 earlier on Monday after Italian President Sergio Mattarella rejected a vocal critic of the single currency as economy minister.
But Mattarella's veto angered the anti-establishment parties which had been trying to forge an alliance, prompting them to abandon their coalition plans and setting the stage for fresh elections. markets fear that the elections, which could take place as early as August, are seen as a quasi-referendum over Italy's role in the European Union and euro zone and could end up strengthening eurosceptic parties even further.
Such worries have resulted in a big sell-off of Italian debt and a surge in safe-haven German bond prices. As a result, the yield spread between 10-year Italian and German bonds has reached its highest since December 2013.
"The sudden, broad widening of euro zone yield spreads caught market participants off guard and is a key factor in the euro's sell-off. Basically, German bund yields are declining and this is negative for the euro," said Yukio Ishizaki, senior currency strategist at Daiwa Securities in Tokyo.
"There are still a lot of euro long positions that had been built up during the currency's bull phase until May that need to be unwound, and the euro's decline looks set to continue indefinitely."
The dollar index against a basket of six major currencies .DXY stood at 94.394 and not far from a 6-1/2-month peak of 94.496 scaled on Monday.
The U.S. currency was 0.25 percent lower at 109.155 yen JPY= after rising briefly to 109.830 on Monday.
The euro was down 0.2 percent at 126.960 yen EURJPY= after brushing 126.820, its lowest since late June 2017.
The Australian and New Zealand dollars were steady at $0.7545 AUD=D4 and $0.6939 NZD=D4 , respectively.